Do As the Dow Does? No Thanks, Says Smead

By Brendan Conway

He says new addition Visa (V) “might be the most popular financial stock on the planet” — for which you can read: Don’t run with the crowd. He argues another new Dow stock, Nike (NKE), “highlights the absurd popularity-chasing nature of the DJIA.”

From Smead’s blog post on, among other things, ”the two most egregious sins of omission and commission perpetrated by the DJIA portfolio managers”:

“They sold Texaco in 1997 and Chevron in 1999 as oil prices were approaching a thirty-year low around $11 per barrel. They traded them for two tech stocks, Hewlett Packard and Microsoft. Hewlett had dramatically outperformed the US stock market from 1990-1997 and Microsoft had been one of the best performing large-cap stocks on the planet from its IPO in 1986 to the point at which it was added to the index. In 1999, Microsoft was probably the most popular stock which ever traded until Apple (AAPL) caught fire over the last ten years. As the manager of a concentrated portfolio, you must resist the temptation to purchase popular securities.

The keepers of the DJIA have made numerous moves toward popularity in the last 16 years. Pfizer was popular drug stock in the aftermath of Viagra in 2004, while Kodak was a declining business headed for bankruptcy. Financials were popular in 2004 when they traded an out-of-favor paper manufacturing company (International Paper symbol IP) for American International Group (AIG). Chevron was added back to the index within 5 months of the all-time high in oil prices in exchange for Honeywell (H) in 2008. The index bailed out on AIG within six months of the bottom of the financial meltdown in 2008.

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As exchange-traded funds and other investing vehicles have ballooned in number, the task of figuring out what works well and what doesn’t has only gotten harder. Barrons.com’s Focus on Funds looks under the hood of ETFs, mutual funds and hedge funds for overlooked values, actionable ideas and the latest pitfalls for fund investors.

Chris Dieterich has covered the U.S. stock market for The Wall Street Journal and Dow Jones Newswires. He is a graduate of Regis University and the Missouri School of Journalism.